Valuing an Industrial Property: A Walkthrough

Introduction

The fastest way to misvalue a warehouse is to capitalize the rent the building collects today. Industrial leases run long, often a decade or more, and the rent inside them was struck years ago in a different market. The value sits not in that contract rent but in the gap between it and what the space would lease for now, a gap the landlord captures only when the lease rolls. A 500,000 square foot distribution building leased five years ago at $8.50 per square foot can sit 30% below current market rent; the analyst who caps the in-place number and stops there leaves a quarter of the value on the floor.

That mark-to-market gap is the through-line of an industrial valuation. The mechanics underneath are familiar from any income approach to property: build the income, capitalize it, cross-check with a discounted cash flow. What bends the exercise toward industrial is the lease itself. The triple-net structure strips most operating costs out, leaving a margin no other major property type matches; the long duration means the rent roll turns slowly and predictably; and the credit of a single investment-grade tenant can make the cash flow read almost like a bond. This walkthrough builds a single warehouse from rent roll to recommended value, with every figure tied, and shows where the releasing spread enters the number.

Every valuation begins with the rent roll: the tenant-by-tenant listing of every lease, its rentable square footage, contract rent, term, and escalators. From it you build effective gross income, the revenue the property actually realizes after the leakage of vacancy and credit loss.

Take a concrete building to work with throughout. A 500,000 square foot Class A distribution warehouse in the Inland Empire, leased to a single investment-grade tenant (BBB rated) on a ten-year triple-net lease now in its third year. In-place base rent is $8.50 per square foot annually, with 3% annual escalators. The lease passes through roughly $3.00 per square foot of property tax, insurance, and common-area cost. The building is fully occupied, and a stabilized single-tenant property with a creditworthy occupant carries a thin credit-loss reserve of 0.5% of base rent.

Effective gross income adds the base rent to the expense recoveries and nets out vacancy and bad debt:

Base rent is 500,000 times $8.50, or $4,250,000. Recoveries are 500,000 times $3.00, or $1,500,000. Vacancy is zero on a fully leased single-tenant building, and the $21,250 of credit loss is 0.5% of base rent. That $5,728,750 is the revenue line; the next step strips out the costs the landlord cannot push to the tenant.

The recoveries line deserves a moment of caution, because it is where the triple-net structure most often confuses a first model. The $1,500,000 of recoveries is not profit. It is reimbursement for costs the landlord first pays and then bills back. It appears in revenue here precisely so that it can be subtracted again as expense in the next step, and the two should very nearly cancel.

Triple-Net (NNN) Lease

A lease in which the tenant pays property taxes, insurance, and maintenance on top of base rent, rather than the landlord bundling those costs into a gross rent. The landlord's net operating income therefore tracks base rent closely, because the reimbursable expenses flow in as recoveries and back out as costs. NNN is the dominant structure in institutional industrial real estate, and it is the main reason warehouses carry far lower operating-expense ratios than apartments or offices.

Industrial operating expenses look almost nothing like multifamily or office because the triple-net structure pushes most operating costs to the tenant. What the landlord keeps is a short list of items the lease does not let it pass through:

Add these together and a typical NNN warehouse lands at an operating-expense ratio of 15-25%, against 40-50% for an apartment building and 25-40% for an office tower. That gap is not a rounding difference; it is the structural reason the same dollar of gross rent buys far more net income in industrial, and it flows straight through to the cap rate the asset commands.

Run the figures on the worked building. Starting from EGI of $5,728,750, the landlord's non-recoverable costs are a property management fee at 3% of EGI ($171,860), a modest landlord insurance line ($25,000), asset-level overhead ($120,000), amortized leasing commissions ($75,000), and a capital reserve at 3% of EGI ($171,860). Those sum to $563,720. Net operating income is therefore:

That is $10.33 per square foot, an operating-expense ratio of just 9.8% (low even for industrial, reflecting a clean single-tenant lease) and a NOI margin near 90%. The same exercise on a stabilized apartment building would shed roughly 45% of revenue to operating costs before reaching NOI. The warehouse keeps almost all of it.

On a stabilized single-tenant building like this one, the line between current and stabilized net operating income barely exists: the rent roll does not turn for years, so this year's NOI is next year's NOI plus a known escalation. The interesting question is not what the building nets today. It is what it will net when the below-market lease finally rolls.

The going-in cap rate is the lever that moves the answer most, and it is built up from a national base, then adjusted for the specific submarket and the specific tenant. As of late 2025 the national industrial cap rate sat around 6.2%, with Class A logistics in the strongest coastal markets trading tighter. Within those markets the spread runs roughly:

Pricing has been a moving target. Even within a single market like the Inland Empire, reported cap rates ranged from roughly 6.1% early in 2025 to the high-4% to mid-5% area for institutional-quality sales later in the year, as buyers digested a supply overhang and a sharp pullback in rents off the 2023 peak. The lesson for the cap rate selection is not to chase a single headline number but to anchor on recent, comparable, stabilized trades.

Submarket then moves the number again, often by 25-100 basis points. Infill product close to dense population, the kind covered in last-mile logistics versus big-box, prices tighter than outer-ring distribution; heavily supplied Sun Belt markets such as Phoenix and Indianapolis have seen cap rates drift wider than the coastal hubs as new construction outran demand.

Tenant credit is the last adjustment, and within a single property quality and submarket it drives more variation than anything else:

Layering these together gives the direct-capitalization value. The worked building is Class A, in a coastal market, leased to a BBB tenant, which puts it near the sector median; call the going-in cap rate 5.5%. Capitalizing the $5,165,030 of NOI:

That is roughly $188 per square foot. It is a clean, defensible number, and on its own it understates the building, because it caps a rent that is well below market and treats it as permanent.

Direct capitalization freezes today's income. A discounted cash flow lets the income move, which on an industrial asset is the entire point, because the income is going to move sharply the year the below-market lease rolls. Two features carry the model:

Build it on the worked property. The Year 1 NOI of $5,165,030 grows at 3% through the remaining six years of the in-place lease. At rollover in Year 7 the rent re-prices to market at roughly a 25% net-effective releasing spread over the final in-place year, lifting NOI from just under $6.0 million to about $7.5 million; 3% escalators then resume through Year 10. The ten-year NOI path looks like this:

Exit value applies a 5.75% terminal cap rate, set wider than the going-in rate to reflect an older building at sale, to the Year 11 NOI of roughly $8,424,000, valuing the property at about $146.5 million on disposition. Discounting the ten years of NOI plus that Year 10 sale at a 7.5% unlevered rate sums to roughly $114 million: about $43 million from the in-place and rolled cash flows and about $71 million from the discounted exit.

The DCF lands about 21% above the $93.9 million direct-cap figure, and the gap is not noise. Direct capitalization freezes today's depressed rent and never sees the Year 7 reset; the DCF prices that reset explicitly. The wider the mark-to-market buried in the in-place lease, the wider the gap: a building with a 25-30% below-market lease rolling midway through the hold can carry a DCF value 15-25% above its direct-cap number, while a lease already near market shows almost no divergence. That spread is the signal to run both methods rather than trusting the cap rate alone.

A single point estimate hides the real risk, so the valuation closes on a sensitivity grid. For this asset the variables worth flexing are the going-in and terminal cap rates (in 25-50 basis-point steps), the releasing spread at rollover (say 15%, 20%, 25%), and the pace of same-store growth between rollovers. Flexing only the spread, holding the 5.75% terminal cap and 7.5% discount rate constant, shows how much of the DCF value rides on that one assumption:

A ten-percentage-point swing in the spread moves the DCF by roughly $7 million, and every one of those dollars sits behind a leasing event that is six years out. The terminal cap rate is the other heavy lever: moving it 25 basis points in either direction shifts the exit proceeds, and the DCF value with them, by roughly $3 million, which is why a disciplined model widens it as the building ages rather than tightening it. That is why the reconciled value does not simply adopt the DCF: the premium it carries over direct cap is real but contingent on both assumptions holding.

The releasing spread deserves the most attention, because it is the assumption doing the heaviest lifting and the one most exposed to the market. A 25% spread assumed against a softening rent environment can evaporate, and with it the DCF premium over direct cap. The discipline is to test the spread against what comparable leases have actually been signing at, not the peak number from the last cycle, and to widen the terminal cap rate rather than tighten it.

Which variable dominates depends on the asset. A single-tenant big-box on a long lease to an investment-grade name is relatively insensitive to the releasing spread, because the roll is years away; it lives or dies on the terminal cap rate, since the exit drives so much of the value. Swap that tenant for a sub-investment-grade manufacturer and credit becomes the binding risk, and the grid should add a tenant-default scenario with downtime and re-leasing cost. A multi-tenant infill park, by contrast, turns over often enough that the releasing spread and occupancy swamp everything else. Tailor the grid to the building in front of you rather than running the same five rows on every deal.

With both methods run and the grid built, the valuation resolves into a range rather than a point. The worked building caps at $93.9 million on in-place income, and across a 5.0% to 6.0% band of going-in cap rates that direct-cap figure alone spans roughly $86 million to $103 million. The ten-year DCF, which prices the Year 7 roll to market, sits well above that at about $114 million. The reconciled value leans toward the direct-cap range rather than the full DCF, because the reversion is years away and depends on the tenant actually rolling at the assumed spread: a defensible conclusion lands around $96 to $100 million ($192 to $200 per square foot), set above pure in-place capitalization to credit part of the embedded roll but short of the DCF figure that assumes the mark-to-market lands in full. A DCF sitting well above direct cap is exactly what a stale in-place rent produces, and quantifying that upside is the reason to run it.

Several traps can pull that range in the wrong direction, and most are specific to how industrial leases and buildings behave:

Every one of those traps distorts the same thing the whole walkthrough turns on: the value is in the roll, not the rent. Anchor the in-place income, then ask honestly what the building releases for, when, and at what cost to get there. That is what separates an industrial valuation that holds up in committee from one that only works in the optimistic case. The deeper sector context for why the roll is so dependable lives in the industrial supercycle and lease-structure discussions, and the same machinery applied to apartments shows up in the multifamily walkthrough.